Investors have been running away from The Gap, Inc. (GPS), whose stock has slipped about 8% since January. The company, facing pivoting fashion demands and a big rise in a preference for online shopping, recently announced that it will close 175 retail shops in North America and lay off about 250 office employees as it doubles down on revamping its core designs. (For more, see: Top 6 Most Profitable Clothing Retailers.)

When sales fall and stores close, investors tend to move on to better opportunities. Gap, like some of its competitors, hasn't yet figured out how to appeal to shoppers under the age of 30, or the some 75 million folks that make up the Millennial generation, the biggest generation in American history. 

It might be easy to question why The Gap didn’t change its tactics sooner, but the answer to that question is simple: Those strategies — in this case, namely churning out stylish "basics" aimed at Generation Xers and older folks — were working. If there’s a downswing in sales, it’s not time to panic and immediately change course. The Gap eventually realized that a longer-term trend was taking place and now it’s taking action (besides instigating the downsizing measures, in early in 2015, the new CEO hired a product development and design executive to oversee the revamp). Will it work? Let’s take a look at some numbers first before reaching a conclusion. (For more, see: Buy or Sell These Troubled Retailers?)

All numbers below as of July 18, 2015.

Drooping Numbers

In May, The Gap’s net sales came in at $1.25 billion vs. $1.27 billion in the year-ago quarter according to the company's 10-Q. Overall comps (same store sales) slipped 1% vs. a 1% comps increase in the year-ago quarter. Let’s break that comps number down a little. 

The Gap

May 2015 comps

May 2014 comps

Gap Global

-6%

-3%

Banana Republic Global

-5%

3%

Old Navy Global

6%

2%

Those aren’t appealing numbers, but let’s first look at a bigger picture — the first quarter. Overall comps in the first quarter slid 4% year over year. Breaking that down:

The Gap

Q1 2015 Comps

Q1 2014 Comps

Gap Global

-10%

-5%

Banana Republic Global

-8%

-1%

Old Navy Global

3%

1%

Still not impressive. So is it possible that the decreases stem solely from The Gap failing to not targeting Millennials? That’s a big part of it, but it’s not the only reason. Also consider that many Gap stores are located in malls, and mall traffic has declined in recent years due to more people shopping online. The new hot trends for live shopping are outlet stores and fast-fashion, the latter of which includes brands that sell cheaper clothing like H&M. 

Now that we know the problems, what’s the solution? (For more, see: Top ETFs to Trade the Retail Revolution.)

Closing the Gap

The Gap recently announced that it will close approximately 25% of its stores in North America. That’s a big percentage, but keep in mind that many of these stores are located in malls. There would be no sense in keeping those stores open to fight against a negative trend (declining mall traffic). By closing these stores, a lot of capital will be freed up for product innovation. In addition to store employees who will unfortunately be losing their jobs, The Gap will be reducing its corporate job headcount. 

Here’s where it gets interesting. While The Gap and Banana Republic aren’t performing well, Old Navy — which seems to be doing better at targeting a younger demographic — is performing well. As long as a retailer owns a brand that’s performing well, there's potential. Gap has brand diversification. If a trend changes, it can allocate capital accordingly. This shouldn’t be much of a problem considering its operational cash flow generation of $1.83 billion over the past 12 months. (For more, see: The 4 R's of Investing in Retail.)

Also consider Asia. Though it’s not often mentioned (look at the SEC filings), The Gap plans on growing the following brands in Asia: Gap China, Old Navy China, and Old Navy Japan. But this isn’t one of those situations where there is no growth potential in the United States. Within the past eight years, The Gap has acquired Athleta—a competitor to yoga-inspired athletic wear firm Lululemon Athletica Inc. (LULU) — and Intermix, a small chain of luxury womenswear boutiques. 

If you’re a dividend investor, The Gap currently yields 2.40%.

The Bottom Line

The Gap has some problems at the moment, but thanks to plenty of capital, Old Navy, relatively young yet growing brands, overseas growth opportunities, and good online exposure, the company has a lot of potential to right its ship. The biggest risk to the stock is its sensitivity to broad market corrections. However, if you’re looking at the underlying company for the long haul opposed to how the stock will perform in the near future, this could definitely be a rebound story. (For more, see: Top Reasons Stock Indices Could Be Biased.)

Dan Moskowitz does not own shares in GPS or LULU. 

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